3. Current Rate Design
3.1. Does Current Rate Design Support State Policies?
In meeting its requirement to ensure that electricity rates remain just and reasonable, and to consider the options provided for in SB 695, the Commission is opening this rulemaking to examine whether the current residential rate structure continues to support the overall goals of the state's electricity policies, whether and how rates should be modified to better support existing and future customer needs, whether the rates are equitable, and whether changes to the current statutes are needed to implement preferable rate structures.
California's rate design is complex, and the move to time-variant and dynamic rates brings additional complexity. For example, as a baseline is paired with a time-variant rate, a separate rate must be determined for each time period of the day and for each tier, which increases the number of rates that must be calculated by the utility. This also impacts any advanced energy management technologies that must be able to calculate and respond to that rate. Additionally, this increases the difficulty in educating customers about potential bill impacts, and may limit the effectiveness of these rates in encouraging customers to respond to them. Fundamentally, as explained below, the changing nature of the grid, the scope and breadth of state energy goals, and the increasing participation of consumers in electricity markets calls for a review of existing rate design policies to ensure the alignment between rate design and the complex, and sometimes competing, state policy goals.
For example, tiered rates based on monthly consumption provide customers with little incentive to shift usage from peak hours, when electricity generation is typically more expensive, less efficient to produce and more polluting, to off-peak hours when generation is typically less expensive, more efficient and cleaner. Another example is the California Air Resources Board's adoption of a cap and trade program that would impose a price on greenhouse gas emissions. The Commission is currently considering, in Rulemaking
(R.) 11-03-012, whether to reflect that cost in electricity rates. Should the Commission decide to pass this cost onto customers in rates, it would be limited in its ability to do so for rates in Tiers 1 and 2, due to current limits on Tiers 1 and 2 rate increases.
3.2. Equitable Rate Treatment
Developing equitable rates based on the principle of cost causation is one of the underlying goals of the Commission's rate making process.19 Cost causation means that costs should be borne by those customers who cause the utility to incur the expense. However, current residential rate design averages many costs across the customer class, potentially resulting in cross-subsidies. By definition, cross-subsidies result in cost-shifting between customers and customer classes. Inequitable rates and cross-subsidies are of particular concern for residential customers in Tiers 3 and 4 of the current rate structure, since most increases in utility costs can only be recovered by increasing rates in those tiers.
There are arguably many subsidies embedded in current residential rates. Some are clear and intended to achieve explicit goals of the Legislature and Commission, such as the discounts included in CARE and medical baseline rates. Others are less direct, such as customers with flatter load profiles paying the same bill as customers with peakier load profiles but similar levels of total consumption. Under the existing tier structure, customers can avoid paying a larger share of system costs by reducing their usage through conservation, solar generation or other means.
Other cross-subsidies result from the differentiation of baseline quantities by climate zone. For example, in SCE's service territory, 66 percent of residential sales are in Tiers 1 and 2.20 As a result, the remaining revenue requirement is borne by the remaining 34 percent of their sales. However, currently 51 percent of their non-CARE, non-coastal customers end up in Tier 4 or above, compared to 37 percent of their non-CARE, coastal customers.21 The end-result is that
non-coastal customers are responsible for a greater portion of the residential revenue requirement not recovered from Tiers 1 and 2 than coastal customers, although adjustments to the baseline quantities for the various climate zones could alter this relationship. The utilities have recently argued that these customers are also more likely to invest in solar as a means to offset their higher electricity bills. These customers are then allowed to avoid paying transmission, distribution and generation costs, putting increased cost pressure on all
non-solar customers whose usage extends into Tiers 3 and 4. Without being able to exceed the statutory limits on the rates in Tiers 1 and 2, a greater percentage of a utility's revenue requirement must be borne by customers in Tiers 3 and 4, especially those that do not participate in NEM. This results in a subsidy as customers in Tiers 3 and 4 pay a higher average price for the same kilowatt-hour of electricity than Tiers 1 and 2, regardless of when or where that kWh is consumed.
At the same time, lowering Tier 3 and Tier 4 rates will lengthen the payback period for these customers' investments in energy efficiency and distributed generation, potentially reducing the demand for those programs or requiring higher incentives (and revenue requirements) to achieve the same level of penetration.
The use of baselines and climate zones may also lead to unintended consequences. Numerous variables, including climate, income, occupancy patterns, number of occupants, square footage per occupant, building shell efficiency, equipment efficiency, and building type, influence electricity consumption. Because the correlation between income and consumption, even within climate zones, is not perfect, there are likely cases of middle- and
upper-income households with low consumption paying bills that do not cover the full cost to serve them. Similarly, lower-income households, particularly households that do not qualify for CARE, may consume relatively large quantities of electricity and consequently pay bills that are greater than the cost to serve.
The use of climate zones, while generally intended to avoid undue
cross-subsidies among regions, may also lead to inequities at the customer level. For example, the summer baseline quantity for a 30-day billing period in PG&E's baseline territory T is 225 kWh. The summer baseline quantity for baseline territory X, which is adjacent to territory T, is 329 kWh, or 46 percent greater than the baseline quantity in territory T. Thus, a lower-income customer residing on the territory T side of a street that divides the two territories and who does not qualify for CARE, will have a much larger bill than a middle- or upper-income customer on the other side of the street who consumes the same amount of electricity.
Furthermore, with state and Commission policies to encourage the adoption of conservation, distributed generation, electric vehicles, smart grid and demand response technologies it may become more difficult for the utility to recover the necessary revenue requirement even from Tiers 3 and 4 customers, especially if customers install distributed generation and avoid distribution costs, or invest in other advanced technologies provided by a third party. For example, current Commission policy on electric vehicles (EV) socializes the cost of any distribution network upgrades triggered by the adoption of EV. Therefore, added costs to integrate EV adoption are spread across the customer base. This increased cost may be avoided by customers with consumption limited to Tiers 1 and 2, including NEM customers whose on-site generation is sufficient to eliminate all usage in Tiers 3 and 4. One potential solution to easing these problems could be a transition away from volumetric charges to a demand or customer charge approach, whereby the utility recovers a larger portion of their fixed costs through fixed charges based on a customer's peak demand or some other determinant. However, reducing volumetric rates in favor of demand charges may run counter to the Commission's goals of promoting conservation and self- generation.
Baselines, based on average consumption in a climate zone, are supposed to balance the different amount of consumption across a service territory so that a customer in a warmer area of the service territory is not penalized for using more electricity simply due to climate. As evidenced by SCE's experience, it appears that customers living away from the coast who tend to use more electricity have borne the brunt of rate increases to meet utilities' revenue requirements, even accounting for the use of baselines.22 In 2001, the Commission initiated an investigation to revise then-existing baselines, noting, "With our recent rate design relying so heavily on baseline quantities to determine which residential customers are affected and to what degree, it becomes more important than ever to ensure the baseline program is up to date."23 Clearly, ensuring that the baseline methodology accurately reflects system and customer usage profiles is necessary for the development of a just and reasonable rate design.
As noted above, SB 695 attempted to correct for some of this inequitable treatment by allowing Tier 1 and 2 rates to increase by a small amount annually.24 Even with this legislative change, customer usage under Tiers 1 and 2 does not, and cannot, reflect the hour-by-hour changes in electricity costs, fuel mix or emission levels; instead, the rates remain flat inside each Tier, regardless of when and where the electricity is consumed and the actual cost of electricity at that time.
A potential benefit of establishing a different rate design could be a smoother transition for NEM customers. Each IOU has requested changes to the rates structures to accommodate the increasing amount of electricity generated by such customers. The current policy for NEM customers offers a bill credit to offset the customer's electricity bill at fully bundled residential rates. NEM customers avoid paying all charges that comprise the bundled rate for the amount of generation they produce. Some of these costs are then borne by
non-participating customers who fall into Tiers 3 and 4, which have raised equity concerns about cost-shifting. Additionally, this may also allow NEM customers to avoid paying for distribution grid upgrades needed to integrate their generation. A more efficient and equitable rate structure could address these "cost causation" issues in a fairer manner, and in a way that does not harm solar investments.25
Similar issues around subsidies appear with wealth transfers between climate zones and income levels. For example, customers with higher incomes who live on the coast but remain under the Tier 2 rate cap are subsidized by middle income customers who live in non-coastal regions and exceed Tier 2 usage levels.
3.3. The Transition to Dynamic Pricing
As noted above, the Commission has stated on numerous occasions that dynamic pricing "can lower costs, improve system reliability, cut greenhouse gas emissions, and support modernization of the electric grid."26 Additionally, with the completion of AMI expected by the end of 2012, the foundational technology to support dynamic pricing as well as providing customers with price, cost and usage information is nearly complete. However, to a great extent, coordinating the move toward time-variant and dynamic pricing has resulted in a series of inconsistent schedules across the three IOUs. Creating consistent policies across the IOUs, developing a schedule for the IOUs, and addressing other over-arching policies, including a consistent educational program, appear to be needed to support a move to time-variant and dynamic pricing, whether voluntary or default. Additionally, creating a forum in which utilities, consumer advocates, market participants and the Commission can engage in sharing information across utilities should support this effort.
Existing law allows the Commission to begin transitioning residential customers onto time-variant rates beginning in 2013. With the current number of pending proceedings before the Commission addressing time-variant and dynamic pricing, it appears that any move to time-variant and/or dynamic pricing will occur after 2013. Developing an inventory of existing proceedings, the time-frame for those proceedings, the proposed schedule for transitioning to time-variant and/or dynamic pricing and developing a common agreement or understanding on a realistic time-frame for any move to time-variant and dynamic pricing could be an outcome of this proceeding.
19 See 26 CPUC 2d 392, D.87-12-066 (1987). The Commission noted that avoiding
cross-subsidies and supporting cost-causation principles "achieves equity in rates by relating the costs imposed on the utility system to the customer responsible for those costs."
20 SCE data response dated May 9, 2010.
21 This breakdown for CARE customers is even more dramatic as 54 percent of
non-coastal CARE customers end up in Tier 4 and above, whereas 32 percent of coastal CARE customers end up in Tier 4 and above.
22 SCE Data Request, dated May 9, 2010.
23 R.01-05-047 at 6 (issued May 29, 2001). Indeed, even in 2001, the Commission noted "we are limited in our review by the statutes setting baseline quantities well below average usage of customers. Because of this, even with revised and updated baseline quantities, the average customer may still find it difficult to reduce usage to baseline levels." Additionally, The Utility Reform Network counsel in 2001 noted: "We have recently been hearing more from our members and from other interested members of the public on that subject. And it's causing us to realize that there does need to be some sort of a reevaluation of how the baseline allowances are established; whether or not the seasonal and climate-zone differences that were adopted in years past are still appropriate; whether or not they need to be somehow modified to be more precise."
24 SB 695 was deemed an "urgency statute necessary for the immediate preservation of the public peace, health and safety" and was passed "to avert a rate crisis involving unfair and unreasonable rates." See SB 695, Sec. 11.
25 This Rulemaking will not investigate the merits or the policies currently in place for the NEM cap and how the cap is calculated; rather, this Rulemaking will focus on the rate designs currently in place for all residential customers.
26 D.08-07-045 at 2.
